by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT] | PDF

Good morning and happy Monday, the last in October.  Risk markets are trending higher this morning, with WTI moving over $85 per barrel.  Much of the country is being rocked by wild weather.  Anyone watching the late NFL game saw two teams dealing with torrential rain.  California, which has been dealing with drought, is now facing heavy rains that are causing mudslides.  In Missouri and Illinois, the late evening was all about tornadic activity and 20^o temperature swings.  The northeast is preparing for an early season nor’easter.  Our coverage this morning begins with economics and policy.  We update the latest on the budget and discuss the upcoming FOMC meeting.  China news is next.  Real estate and defense are front and center.  The international roundup follows, with Turkey and Poland leading the news.  We then look at crypto; the new ETF and Tether are the focus. We close with our regular pandemic coverage.

Economics and policy:  The budget and the Fed lead the news.

• Budget negotiations continued over the weekend, and the Democratic leadership says they are “close” to a deal. A “billionaire’s tax,” which would include a version of a wealth tax, is apparently being discussed.  The budget is being pared back; the current “talk” is around $2.0 trillion, down from $3.5 trillion earlier.  This report details the current state of the negotiations, including what is still in the mix and what has been pared or cut out completely.
• The FOMC meets on November 3, and it looks increasingly like the central bank will announce tapering. Recent comments from Chair Powell were more hawkish than usual. He admitted this transitory inflation talk no longer reflects the current situation.  Turning hawkish now won’t help him in his renomination efforts, but we are fast approaching the point where the president can nominate a replacement.  If Powell is going to be replaced, the new chair nominee will need to be named in the next three weeks or so.
• In Europe, the energy crisis continues. The latest nation to face problems is Moldova, which has declared a state of emergency due to the lack of supplies.  Russia has been pressuring this country for years and is apparently using Europe’s natural gas crisis as a lever to gain additional influence.
• Inflation is a growing worry; companies increasingly signal that their costs are rising fast and may outstrip their power to pass the increases to consumers. If so, earnings could be adversely affected next year.  So far, though, companies are still passing on price increases.
• Although the level of workers on strike is still low relative to history, the numbers are rising. President Biden has not publicly supported the labor actions.  The most likely reason he has been reticent is that the strikes add to inflation pressures.  Wage pressure is expected to remain elevated.
• The supply chain problems are well known, but we noticed an interesting bit of news. Local regulations limited how high containers could be stacked in California, exacerbating the supply problem.  A recent Twitter blast seems to have led some localities to temporarily relax the rules, adding storage capacity.
• There has been an uptick in hacking activity originating from Russian crime groups. Official Russian cybersurveillance activity has also increased.

China news:  Real estate and defense are in the headlines.

• Last week, we noted one way we know that China was getting serious about bringing their property sector under control would be to implement a property tax. Politically, a property tax would affect nearly anyone from the middle class to the wealthiest, a group that usually has some degree of influence.  It looks like the Xi regime is floating a larger trial balloon on this issue and is something we will be watching carefully in the coming months.
• On the defense front, the fallout from China’s summer test of a hypersonic missile continues to resonate. This system would seriously undermine U.S. antimissile defenses and potentially change the balance of power between the two nations.  According to reports, China is also working on an anti-satellite system that would attach to the satellite’s boosters and could disable it at will.
• General Secretary Xi gave a talk that clarified the “common prosperity” mandate. It appears more about taxing the rich than giving money to the poor.  The “iron rice bowl” policies of the past tended to bring low productivity, something that Xi likely wants to avoid.  On the other hand, he also wants to curb the power of entrepreneurs.
• Evergrande (EGRNF, USD, 0.36) has reportedly resumed working on some projects. It isn’t clear if the firm has found financing to continue or if this is a publicity action taken to reassure investors.
• U.S. intelligence agencies are warning firms in biotech and AI that Chinese intelligence is targeting these industries. China is reportedly seeking to gather information from American firms, while Beijing denies similar access for U.S. firms.
• Tesla (TSLA, USD, 909.68) is reportedly helping Chinese auto battery makers get access to the U.S. EV industry.
• China has passed a new law that will give it expanded powers to police its land borders. This may coincide with the situation in Afghanistan, raising fears of refugee flows.

International roundup:  Turkey and the EU lead today’s news.

• President Erdogan declared 10 western ambassadors “persona non grata” after they released a public letter calling for the release of Osman Kavala, who was acquitted in 2020 on charges he organized protests to overthrow Erdogan’s government.   The ambassadors, who represent Canada, Denmark, Finland, France, Germany, the Netherlands, New Zealand, Norway, Sweden, and the U.S., will likely be forced to leave the country.  The Turkish lira was already under pressure due to Erdogan’s persistent interference with monetary policy.  This latest action will likely increase the pressure further.  Although we have seen nothing official yet, there is growing speculation that some Turkish envoys will be sent home by the EU if Erdogan continues to push for ousting European representatives.
• Poland remains at odds with other members of the EU over the role of the European Court of Justice. Warsaw claims its courts have supreme power within Poland.  The EU claims otherwise.  So far, the “Merkel method” of handling disputes, which is to discuss them endlessly with hopes they go away, remains in place.  Poland has reacted angrily to the threat of subsidy cuts if it maintains its position.  However, unlike the U.K., Poland shows no desire to leave the EU; it just wants to disobey it.
• Colombia’s most wanted illegal drug kingpin, Dairo Antonio Úsuga, known as Otoniel, has been arrested. He could be extradited to the U.S.
• The G-20 meetings on climate change will be held this week; so far, members are divided on the path forward.
• The government in Sudan has been ousted in a coup. The government has been dissolved, and the coup leaders have declared a state of emergency.
• Bosnia has been a frozen conflict area since the mid-1990s. As part of the ceasefire, a Serb enclave within Bosnia was created.  The leader of that enclave, Milorad Dodik, is threatening to separate from Bosnia to join Serbia, which would likely restart the 1995 conflict.
• A deal to recapitalize Monte del Paschi (BMDPF, USD, 1.28), an Italian bank, has failed.
• U.K. exporters are facing an end of a grace period for exports to the EU. There is a risk that exports will decline as firms in Britain struggle to master the new regulations.
• Earlier this year, Chile began the process of creating a new constitution. Left-wing pressures to change the current constitution, which bears the marks of the transition from Pinochet, were strong.  In an interesting twist, recent polls show that a far-right candidate is surging in the presidential polls.  José Antonio Kast is rising in popularity on his anti-immigration stance. The vote occurs on November 21.

Crypto:  Investors should exercise caution with the new ETF, and stablecoins are a cause for concern.

• As we noted last week, the new bitcoin ETF (BITO, USD, 39.51) has seen its market capitalization exceed 1.0 billion, the fastest that an ETF has ever reached this mark. As we also noted last week, the structure of this product, which uses futures instead of actually holding bitcoin, will be a significant drag on performance and create opportunities for futures traders.  Although gold has a similar term structure in the futures markets, most of the ETFs attached to gold are grantor trusts, which actually hold the metal, eliminating the roll yield problem.
• Although “black swans” by definition are unpredictable, we speculate on what could be the next trigger for a financial crisis. Our bet has been stablecoins, which have all the characteristics that would make them runnable (something that has gotten the attention of regulators).  Tether is the one coin facing increasing scrutiny.  A major customer disputes the company’s claims it backs its coin with USD.   Hindenburg, a short-seller, is offering a $1.0 million bounty on information about Tether’s reserves.
• Near the end of the Trump administration, the Comptroller of the Currency eased regulations and allowed banks to trade cryptocurrencies on behalf of their clients. So far, the Biden administration hasn’t reversed the ruling.

COVID-19:  The number of reported cases is 243,780,679, with 4,950,324 fatalities.  In the U.S., there are 45,444,779 confirmed cases with 735,941 deaths.  For illustration purposes, the FT has created an interactive chart that allows one to compare cases across nations using similar scaling metrics.  The FT has also issued an economic tracker that looks across countries with high-frequency data on various factors.  The CDC reports that 503,493,015 doses of the vaccine have been distributed, with 413,645,478 doses injected.  The number receiving at least one dose is 220,351,217, while the number receiving second doses, which would grant the highest level of immunity, is 190,578,704.  For the population older than 18, 68.9% of the population has been vaccinated.  The FT has a page on global vaccine distribution.

• As U.S. cases fall, there has been a gradual relaxing of restrictions. Foreign visitors are being allowed into the U.S. if they are vaccinated.
• Germany is seeing a new surge in cases, consistent with climate conditions that encourage indoor activity.
• The pandemic has lifted China’s exports and probably has delayed the transition toward a consumption-based economy.

   View PDF